Is Australia facing a mortgage crisis?
The age-old debate over Australian property has reared its head once again, with some excited market commentary suggesting nation-wide house prices could crash by 50% and bank shares might decline by 80%.
At the same time, there is renewed debate over the taxation treatment of housing and whether both negative gearing and capital tax discounts for property contributed to overly inflated prices.
Investors are right to be nervous, so where does the truth lay?
Let’s start with the Australian Financial Review report of a hedge fund manager roaming Western Sydney claiming many home buyers were signed up to mortgages they can’t really afford using fictitious income levels.
Does this likely happen? Probably so. Is it widespread and so represent a systematic risk to both the housing market and banking sector? I strongly suspect not.
There’s no doubt some households are over their heads in debt, both owner occupiers and aggressive amateur investors. It’s easy to find one or two examples to fill out a newspaper story.
But the evidence suggests such excesses are at worst localised to some areas (such as Western Sydney) and - more likely - limited to a few households in all regions across the country.
Of course, America’s sub-prime mortgage crisis was also limited to a narrow range of home owners and certain regions. But there are several major differences between this blowout and Australia’s current situation.
For starters, in the United States most property lending is “non-recourse” – meaning banks can only lay claim to the property in the event of mortgage default, rather than any other assets that the household might own. That creates a greater incentive to speculate, as in the worst case situation home owners can simply “throw the house keys back to the banker”.
In Australia, banks can take other assets if the value of your property falls below the cost of your mortgage in the event of default – meaning household need to be doubly sure that know what they’re doing. The evidence suggests that on average households are more than two years ahead of their mortgage repayments, meaning they at least have some buffer in the event of temporary unemployment.
Unlike in the United States (and other widely cited home bubble examples such as Spain and Ireland), Australia’s expansion in housing supply has remains relatively constrained despite the lift in house prices. House price crashes often come about when a speculative run-up in prices is met by an avalanche of new supply – this has (generally) not been the case in Australia.
Last but not least, what really turned America’s sub-prime mortgage bubble into a near-death experience for Wall Street banks - and the global financial system - were the billions in derivative “side bets” shorting this relatively small group of mortgages.
It was the inability of investment banks to meet their payment obligations on these huge “side bets” on America’s housing sector that caused the GFC.
Suffice to say there is nowhere near the level of “side bets” on Australia’s mortgage market – and certainly nothing which is being actively developed by Australia’s major banks. Those that fear a local housing crash – typically offshore hedge funds – are still trying to short Australian banks directly. Though this bet is yet to come off.
Indeed, this bet, along with that of shorting Japanese bonds has come to be known as the “widow maker” in the hedge fund industry, because it has so far bled investors dry.
That said, there are patches of the Australian housing market were signs of excess are evident. The high rise apartment building boom across our major capital cities is being funded by small deposit “off the plan” financing, together with a wall of money from China. Even the Reserve Bank is worried that pockets of over-supply are developing, particularly in Brisbane and Melbourne. Outright nominal price declines on these apartments of at least 10 to 20% seem inevitable – so buyer beware.
Labor’s policy to only allow negative gearing for new properties would risk only adding to this high-rise investment bubble.
More broadly, as I’ve often argued, mortgage affordability across the whole country does not seem out of line with historic norms, particularly given the large decline in interest rates over recent years. By international standards, Australia capital city house prices have long seemed relatively high – but only because we insist on working in only a few highly congested cities, and then refuse to improve transport links so that these city workers can commute from more affordable regional areas.
Published: Monday, February 29, 2016
New on Switzer
- Mad About Money - Episode 85 25 Jan •
- Interest rates up or down? Today's inflation number is crucial 25 Jan •
- 5 things you need to know today 25 Jan •
- Shriro could snag sales with celebrity BBQ range 25 Jan •
- Why I'm with VP Watson 25 Jan •
- Property buyers to get power back in 2017 24 Jan •
- George Boubouras 25 Jan •
- Innes Willox 25 Jan •
- Chris Weston 24 Jan •